Monday, August 15, 2011

They Are Scared Witless..

In this post's title "they" are speculators/investors (are there any true investors left in this world, I wonder?) and "witless" means exactly that: they have taken leave of their wits (assuming they had any to begin with, of course).

Proof? The following charts, showing:

(a) The price of gold soaring to new highs, apparently discounting a heavy bout of inflation in the future and,
(b) The yield on 10-year US Treasury bonds crashing to near new lows, apparently discounting future deflation.

Gold Flying High

10-Year Yields Collapsing

It stands to reason that this situation is untenable and can only occur when speculators are very, very scared, running about like chickens with their heads cut off.  I am a long-term investor myself, a natural-born contrarian bent on spotting exactly such nonsensical divergences.

Markets always provide tremendous opportunities to level-headed contrarians at two nexus points: bubble bullishness and panic.  Characteristic to both is the absence of common sense, observable and easily calculated by simple arithmetic (ratios are as far as you have to go).

For example, the ratio of gold price to 10-year yields stands now at 776 (it went as high a 850 a couple of days ago).  Just three years ago it was at 210...

The witless in search of "safe" havens, indeed...


  1. How do you invest as a contrarian? Seems all asset and income classes are high. Real estate?

  2. Eddy Elfenbein of and Jake of EconomPic Data developed a pretty interesting relationship between gold and real interest rates that backtests nicely over the past 60 years. The chart is compelling.

    "Whenever the dollar's real short-term interest rate is below 2%, gold rallies. Whenever the real short-term rate is above 2%, the price of gold falls. Gold holds steady at the equilibrium rate of 2%...According to my backtest, for every one percentage point real rates differ from 2%, gold moves by eight times that amount per year. So if the real rates are at 1%, gold will move up at an 8% annualized rate. If real rates are at 0%, then gold will move up at a 16% rate (that's been about the story for the past decade). Conversely, if the real rate jumps to 3%, then gold will drop at an 8% rate."


    It is basically shows people believe that the value of gold is as a competing currency (leveraged). 10-year Treasury yields fall to zero real yield, leading to a lower dollar, leading to a higher gold price.

    Why this relationship holds is based on long-term tradition, and faith that widespread belief in that cultural tradition will continue. Not much more than that, but it does have a 5,000 year track record.

  3. Why witless?
    The FI market are still technically bullish as Fed has bought away a lot of bonds and created reserves. And the GOld market is (and will further) anticipate that all the short term money vouchers lying around might become worth less and less in due course.
    Now, the first will turn sooner or later, with all due supply from the Treasury but the Fed will step up to at some political convenient point.
    Why unnessearily abstract this with inflation and deflation? We will get both.

  4. What do the MA(50) and MA(200) in those charts mean?

    A link to an appropriate introduction would be fine, thank you.


  5. MA(50) and MA(200) stands for Moving Average, 50 day and 200 day respectively.